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Friday, February 1, 2013

Sumner's Advice to Keynesians: Not GDP but NGDP

It's a little ironic having him "advise" Keynesians as much time as he spends baiting them-this is someone who has referred to Keyensianism as "mind-numbingly stupid." Nevertheless he claims to have some advice which will facilitate their goal of more aggregate demand.

The Job-Rich Depression
BRITAIN’S economy has had an odd five years. In output terms, things have been terrible. The slump that started in 2008 is far worse than the 1930s depression; only the years after the first world war were harsher. Consumption has been dragged down by weak real wage growth, investment has been held back by tight credit and exporters have struggled with weak demand in the euro zone. The initial estimate of GDP growth in the fourth quarter of 2012, due shortly after The Economist went to press, was expected to contain more bad news.
. . .
Yet the job market is humming. Data released on January 23rd show that employment has topped previous peaks (see first chart). The combination of economic slowdown and plentiful jobs means output per worker has fallen 12% further than at the same stage in previous recessions. That is equivalent to the loss of the entire manufacturing sector. Britain is now startlingly unproductive compared with other rich countries. What is going on?
. . .
Some point to Britain’s growing army of part-timers, who account for a third of the 1.3m net new private-sector jobs created since 2010. Interns and other unpaid workers are classified as employed but may produce little output while learning their trades.
Still, neither answer solves the puzzle. Average hours worked have increased even as part-time jobs have become more common. And the 275,000 or so unpaid workers are a tiny fraction of Britain’s 30m- strong workforce. Britons really are producing less per hour worked. It is not the data that are odd. It is the British economy.

"What can we make of this? Keynesians feel the problem is too little aggregate demand, and point to the very low RGDP growth rates. But RGDP is not the right way to measure AD, so this creates some problems for the Keynesian model. Old Keynesians tended to focus on the unemployment rate, but the British labor market is no worse than most other developed countries (US employment is far from the peak.) So where is the evidence that austerity is a problem?"

"New Keynesians use inflation as their AD indicator, but that’s run way over target for the past 5 years. So by that measure there is no AD problem at all."

"I think the Keynesians are partly right, the UK does have an AD problem. I say ‘partly right’ because I suspect they also have big AS problems, which the Keynesians tend to underestimate. But I’d like to focus on where I agree—they have an AD problem."

"Now I’d like to suggest an AD indicator that is far superior to either jobs or RGDP—you guessed it, NGDP. The growth rate of British NGDP has recently been quite low, and that’s keeping the unemployment rate above the natural rate."

"So I’d encourage Keynesians to focus on NGDP as a policy indicator. It’s the variable that will best describe the AD problems they worry about. If you focus on RGDP, that raises the question of why so many extra workers haven’t created any extra output. New Classical skeptics will say there must be a productivity problem, and the Keynesians won’t have a good answer. After all, in the Keynesian model more AD leads to more NGDP—how that gets partitioned between RGDP and P depends on the slope of the SRAS curve, which demand-side policymakers cannot control.
In contrast, the NGDP “musical chairs” approach says that a sharp slowdown in NGDP growth will almost always cause excess unemployment, regardless of the supply-side of the economy."

It's true that right now a heightened amount of NGDP-nominal spending in the economy would be a positive development no matter what. It's also true-according to Keyensians-that we are nowhere near full capacity right now so a sharp increase in inflation isn't in the cards.

I'm not sure about Sumner's tendentious focus on NGDP but I have a hard time seeing a problem with it. Krugman has called for an increase in the Fed's inflation target-as that would be a significant lessening of the burden on debtors. Indeed, Krugman has endorsed NGDP targeting-though his reasonoing is not entirely the same as the MMers.

I'm not at all sure about what Sumner says about AS issues. However, I can't see the downside in NGDP as opposed GDP and inflation. It would seem that politically it's mostly a net benefit.

Krugman had endorsed it back in late 2011:

“Market monetarists” like Scott Sumner and David Beckworth are crowing about the new respectability of nominal GDP targeting. And they have a right to be happy."

"My beef with market monetarism early on was that its proponents seemed to be saying that the Fed could always hit whatever nominal GDP level it wanted; this seemed to me to vastly underrate the problems caused by a liquidity trap. My view was always that the only way the Fed could be assured of getting traction was via expectations, especially expectations of higher inflation –a view that went all the way back to my early stuff on Japan. And I didn’t think the climate was ripe for that kind of inflation-creating exercise."

"At this point, however, we seem to have a broad convergence. As I read them, the market monetarists have largely moved to an expectations view. And now that we’re almost four years into the Lesser Depression, I’m willing, out of a combination of a sense that support is building for a Fed regime shift and sheer desperation, to support the use of expectations-based monetary policy as our best hope."

"And one thing the market monetarists may have been right about is the usefulness of focusing on nominal GDP. As far as I can see,the underlying economics is about expected inflation; but stating the goal in terms of nominal GDP may nonetheless be a good idea, largely as a selling point, since it (a) is easier to make the case that we’ve fallen far below where we should be and (b) doesn’t sound so scary and anti-social."

"I still believe that the chances of success will be a lot larger if we have expansionary fiscal policy too; but by all means let’s try whatever we can."

Krugman was thinking in more or less the terms I am: that NGDP makes raising the inflation rate more politically acceptable. I find Sumner's argument that NGDP means we don't have to worry how the partition breaks down-2% inflation and 3% GDP or vice versa-a significant benefit.

So if there's a downside to it, I'm unaware of it. Any thoughts on this would be welcome.

12 comments:

If I read Sumner correctly he basically believes that the Fed can create as much inflation as is required by buying (or threatening to buy) as much stuff as is required to do that. I realize he's not advocating inflation per se, but if NGDP is to grow at 5% a year, then probably inflation will be a big part of that. He thinks the problem is money is too tight and it should be easier in times like these.

Now to accomplish this he suggests the threat of buying what's required will go a long ways... in lieu of that, then the Fed starts to purchase assets... Treasuries, then on to agency debt, then MBSs and then corporate debt, etc... where does it stop? The whole world if necessary. Of course he says that will never be required, but he's also written that "buys the whole world" line too. What ever's required basically. In fact he says he "opposes" non-traditional asset purchases by the Fed BECAUSE they'd never be required... which makes no sense to me.

But moving on: QE is this in small scale. The result has been mounting excess reserves. True? No inflation to speak of. So what of it? Why is adding more excess reserves to bank balance sheets (BSs) going to help?

For Sumner's plan to work, doesn't the Fed have to move into purchasing non-traditional assets? More MBSs, corporate bonds, etc?

Once it leaves the gov-bond arena, isn't it really something other than Monetary policy? You tell me. Sumner says that any central bank that has set out to create inflation has never failed. Is that true? If it is true, what have they resorted to? Was buying gov debt sufficient (as Sumner implies it will)?

So it's clear to me that if the Fed starts buying non-traditional assets they can definitely cause inflation: e.g. cars, real-estate, groceries, etc.

But it's not clear to me that if they stick with traditional assets that it will be inflationary.

But what's the Fed going to do with cars, real-estate, and groceries?

This is why I think you need to both have the Fed purchase Treasuries (a la QE) AND have the government continue to deficit spend (Treasury holding bond auctions and the gov spending the proceeds). This amounts to gov self financing, but with more useful spending than what the Fed would spend on, and with less disruption to the safe investment markets. Because it's going to take a LONG time for the Fed to get to buying cars in Sumner's scheme: first it'll have to buy up all the safe bonds, MBSs, corporate bonds, etc. This is going to result in huge market disruptions because people will still be chasing a safe place to put their money, and the Fed will be taking those away one by one. If, on the other hand the Treasury continues to auction bonds, then they'll always have a place to invest in safe assets... even though they keep selling them again to the Fed.

Government deficit spending, as Cullen Roche describes, is really the government swapping a bond for Peter's money, and then using that money to pay Paul. So a net new financial asset (the bond) is injected into the private sector in the process (at least until the bond matures), and the equity of the private sector is increased by the amount of the spending (and by the cumulative interest payments on the bond over time), and money is redistributed from Peter to pay Paul.

Fed spending during QE is a swap of assets: reserves for Treasuries or MBSs. If the Fed were to buy up all the safe financial assets in these kind of swaps, the market would invent new ones to satisfy demand for this kind of safe asset.... but nothing is going to be as safe as a Treasury.

So when the government deficit spends it often spends on such things as unemployment benefits, SS, Medicare, etc. Ultimately the spending decisions are at least in some way distributed out to people. How could the Fed do something similar? Would they fund directly SS or Medicare or unemployment benefits? That doesn't fit their model of asset swap. If they bought aircraft and cars, etc, that's more in line with the asset swap model, but it seems terribly inefficient for the Fed, of all entities, to making those kind of purchasing decisions.

At least w/ deficit spending the gov satisfies a demand for safe assets AND spends in a way which is probably more efficient than what the Fed could muster. It seems like Fed spending satisfies NONE of that. Used in *conjunction* with deficit spending, however, it really is a back door means of government self financing since the interest on all the gov debt the Fed buys is retired, especially if it hangs on to the Treasury bonds forever. I'm not sure about the principal on those bonds... do you know? If the Fed holds the gov bond to maturity, is the principal retired too? No matter really, since the gov could always issue more bonds to pay the principal.. i.e. a straight no-interest means of rolling over the debt.

What is your view? Say the Fed announced tomorrow it was going to target a 4% inflation rate. What ELSE would it need to do to accomplish that? Add to open ended QE type purchases? Keep overnight rates low? Raise overnight rates (by raising interest on reserves, right? ... as long as we have all these excess reserves, that's pretty much it's only tool left, correct?)?

It's just not clear to me, other than directly purchasing items from the basket of goods going into the CPI, how inflation is actually raised... because excess bank reserves doesn't seem to do the trick. We've been trying that... and perhaps that's distorting the equities markets (since banks can then use some of those reserves to invest with, provided they satisfy CAMELS ratings, etc).

Also, on a slightly different subject, I know Nick Rowe, Scott Sumner, and Paul Krugman went after Keen and his MMT defenders regarding "Banking Mysticism" ... but it seems to me the real mystics are what I'll call the believers in "physical cash mysticism." I know I've read some pretty straight forward Krugman articles on this, but I think both Sumner and Rowe have engaged in this as well (though it's harder to tell if those two are serious). The idea seems to be that they assign some sort of special significance to physical cash (bills and coins). I don't get that at all. Do you? If I get paid in $100 bills the only "hot potato" effect will be me getting to the bank ASAP and converting that back into electronic money.

Some good points and interesting questions raised, not all that I can answer either but I'd be interested to know. Like you say when the Fed starts to buy assets as uncoventional as houses and cars it's actually a fiscal operation.

The thing I notice with Sumner in particular-though most of the Market Monetarists are this way; Nick Rowe being from Canada seems the least-is a religious opposition to anything that is called "fiscal stimulus."

If pressed his only explanantion to his oppoisiton is that fiscal policy is merely a very inefficent way of doing monetary policy-as he believes it risks raising interest rates.

He thinks that if the govvernment say buys a bridge, then the stimulative aspect is simply the money the Govt sends out into the economy. He also no doubt thinks that the Govt in this case competes with the private sector and therefore "crowds out" private investment.

I don't get why he approves of anything, provided it's through the Fed but if the same thign is done through the Treasury it's a bad thing.

Your question about the mechanics of the Treasury operation is interesting. I haven't totally wrapped my head around what really happens when the Treasury sells bonds to buy assets.

I think the MMTers-as opposed to MRers like Roche-say that when the Govt buys goods it need not even bother selling bonds to "drain reserves" but that this is some kind of "necessary fiction" that the authorities believe as they haven't fully appreciated the change in the monetary system since the Nixon Surprise.

I read a reallly interesting piece by Simon Wren-Lewis about how the goveernment should rather than issue debt should own assets as it would enable us to have less "distortioary taxation"-I use scare quotes as I'm never sure what they mean by distorionary-I'm always a little wary as it's a favorite worry of the Supply Siders.

Wren-Lewis though is not a Right winger so mayve it's something legitimate in how he describes it.

Anyway, it's a very interesting idea. I like you am trying to wrap my mind around how monetary matters really work. I'm never entirely sure of the dfiference between fiscal and monetary policy-I know the basic idea is that in monetary policy the Fed buys bonds and prints money whereas in fiscal the Treaury sells bonds to buy assets. So does the Treasury do the same thing in either case-sell bonds?

However I get that what Wren-Lewis talks about here is a very novel and radical idea.

Again, I feel like I don't understand what the Govt really does in its fiscal operatons deeply enough to know exactly what would happen in Wren-Lewis's scenario but I do get the implications would be huge.

What I see is that Market Monetarists seem to think that all fiscal stimulus is just an inefficient way of doing monetary policy-like in the bridge example-but I think that's wrong, though I'm not yet sophisticated enough to proivide a real theoretical explanantion of why they're wrong.

I think the banks have a concern with physical cash because THEY dont control it once its in our hands. They see large conversions into cash as assaults on them, which really should be an aha moment for the rest of us. Banks NEED us, more than we need them. Banks want to make loans, if we just go to cash and decide to live simply, why on earth would we borrow $10,000 so we can pay back $15,000? We've been fed for years that banks are the drivers of wealth creation. No they are not they are simple facilitators. They dont bring wealth anywhere, they go where there is wealth and make a profit off it.

They are no different than govt in this respect. Govt is a facilitator that charges a fee called taxes, banks charge interest. The interest goes to very few people and is pretty expensive, taxes get recirculated into public goods for all in exchange for their expense.

Mike, I agree with your assessments of monetarism etc. but you do need to warn anon that reading too much of Sumner can be hazardous to your health.

Mike has some sort of magic shield he puts on when he ventures into Sumner land that protects him, I cant go there without drooling and talking to my self for a week afterwards.

Here is an example of the kind of stupidity you will hear from Sumner;

Him: "Inflation in Japan is one hundred times higher than in the US!!"Me: "Uhhhhhh Scott, Japans price in Yen is equivalent to us pricing thing in cents, thats not inflation"Him: "Doesnt matter!"

I am not advocating a "live only within your means " lifestyle Mike, Im just making a point about what monetarists and banks fear. I dont agree about banks entirely. They are only a blessing if they are NOT a curse. The curses are more expensive than the blessings .* Nassim Taleb has said that over their history, banks have LOST money, only govts have kept them solvent*

I agree that we must always live beyond our means (whatever that means) because we can always do more, (together with better coordinated action) than we are doing now. Using private credit is A PART of healthy growth but its not THE driver in my view. I would argue that virtually everything that has been society changing within the last century and a half has NOT been driven by private investment. Public investment drove it and private entities then made profits from them. Banks are extractors, not value adders.

I'm not sure I agree with you about private investment. What I mean by "beyond our means" is the idea that there must be more aggregate spending in the economy than merely what's already in our pockets.

The most untenable view is the extreme Rothbardian one where we can so without any fractional reserve banking, etc.

I think it's inevitable that banks are both a blessing and a curse.

To argue that "public investment" is the driver of growth needs to be qualifed at least. What do you consider "public investment."

I see both the public and private sphere's as having their parts to play, Neither is all good or all bad. The extreme libertarianism is a problem because of it's total one sided belief in the sacnticty of the private sphere.

Part of this response is for your most recent post and part for the current thread.

When I say banks are not a blessing Im not saying they are bad, even though they have lost money in their history. Calling them a blessing implies we couldnt do without them in a sense. That they have been a necessary part of our development economically. I dont buy that. Not cuz Im ANTI bank but Im not putting them on the pedestal they wish to be placed on. Getting things done as a country requires coordinated efforts by our citizens. On some level this coordination can be local or regional and run by mostly private entities, the bigger it gets it requires public entities. Things the scale of country wide should not be left to private individuals no matter how smart they are. More importantly I think we need to be honest about what a bank does or doesnt do. They are facilitators just as govt is, but their facilitation has a profit/interest cost while govts has a tax cost.

Public investment is investment done BY the govt, without an immediate concern for profit or loss on investment. It is not made for monetary gain but for real gain.

Im not anti bank, Im anti banking the way it has been conducted for the most part the last 20+ years. There is a place for coordinated private investment (what I'll call banking) and coordinated public investment.

But my point about govt investment in the last 100+ yrs: Highway system, Space program and all the spinoffs form that research, computers, rural electrification are all things we would not have at the scale we do today if we had been operating under the rules modern conservatives wish for modern govt to operate under.

Regarding your other post about cash mysticism, I simply think that you can explain the behavior of the banks and ideas of monetarists and many supply siders no other way. They think cash has mystical properties. Personally I think we should go to all electronic money, it would bother me none. It WOULD bother a lot of other people though. I certainly dont think we would be better off if we did all cash transactions but many people do seem to treat cash as more of a physical asset, especially in potentially deflationary times. Of course in true deflation cash does get a positive return by NOT getting a negative return.

Greg, it was me that brought up "paper bills and coins mysticism." That was my impression from reading Krugman, Rowe, and Sumner. "Cash mysticism" certainly sounds better, but terminology is a slippery critter in these economic discussions, so often prefer to spell it out in long hand to make it perfectly clear what I'm talking about. Even "paper bills and coins" obscures a potentially important distinction between "vault cash" held at a bank (which is considered to be part of a bank's reserves) and that held by the private non-bank public (i.e. "in circulation"). Do banks earn interest (currently) on their "vault cash."

As an example of me trying to pin down somebody on what they mean exactly by "currency" (again, "currency" or "cash" ...Ahg! Let's just spell it out exactly, shall we?) see my discussion here with David Glasner or here with a commenter on Cullen Roche's site (my name is Tom Brown... but I post here as "Anonymous" because it's easier)

I feel that "cash mysticism" is a nice retort to the "banking mysticism" charge that Krugman, Sumner, and Rowe have made against others (Keen, Fullwiler, etc.)... although I regret bringing it up with Glasner since I haven't detected a hostile tone from him in that regard. I'm really just trying to figure out exactly what he means by "currency" right now.